Value in Corporate Bonds ?

BlackRock's head of credit Paul Shuttleworth believes corporate bond default rates are likely to rise despite the UK Government's huge recapitalisation of banks improving sentiment towards the asset class.

However Shuttleworth thinks the current yields on corporate bonds are far too pessimistic and that the asset class is offering good value over the medium term. Shuttleworth said that a proliferation of new bond issues from financial companies was now likely as until recently the prevailing conditions had made the issue of new bonds almost non existent, but the deteriorating economic environment would make further company failures and subsequent defaults more likely. He said: 'Investor sentiment changed for the better once it became clear that the UK Government's bank recapitalisation would leave bank bondholders intact.'

'As the British lead has set a global template it is likely that sentiment will continue to improve but the flies in the ointment are that we will see financial institutions issue more bonds in the future - which they haven't been able to do until recently. With a slowing global economy company failures and subsequent bond defaults may increase.'

Despite this, Shuttleworth believes the corporate bond sector has stabilised since the recapitalisation and that the current default risks are priced in. He said: 'Historically the worst cumulative default rate for 'investment grade' bonds (BBB and above) over any 10 year period since data started being collected in the early 1970s, was 5.2%. The average default rate over any 10 years is actually 2%.'

He added that the yields currently being paid out annually on corporate bonds were pricing in a 50% default rate over the next 10 years for financials, and 30% for non-financials which he sees as hugely pessimistic. 'The pessimism in the pricing of corporate bonds is overdone - over the medium term they offer real value